Discussion paper

DP14870 The Rise of US Earnings Inequality: Does the Cycle Drive the Trend?

We document that declining hours worked are the primary driver of widening inequality
in the bottom half of the male labor earnings distribution in the United States
over the past 52 years. This decline in hours is heavily concentrated in recessions:
hours and earnings at the bottom fall sharply in recessions and do not fully recover
in subsequent expansions. Motivated by this evidence, we build a structural model
to explore the possibility that recessions cause persistent increases in inequality; that
is, that the cycle drives the trend. The model features skill-biased technical change,
which implies a trend decline in low-skill wages relative to the value of non-market
activities. With this adverse trend in the background, recessions imply a potential
double-whammy for low skilled men. This group is disproportionately likely to experience
unemployment, which further reduces skills and potential earnings via a scarring
effect. As unemployed low skilled men give up job search, recessions generate
surges in non-participation. Because non-participation is highly persistent, earnings
inequality remains elevated long after the recession ends.


Heathcote, J, F Perri and G Violante (2020), ‘DP14870 The Rise of US Earnings Inequality: Does the Cycle Drive the Trend?‘, CEPR Discussion Paper No. 14870. CEPR Press, Paris & London. https://cepr.org/publications/dp14870